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Cobweb Model Of Price Dynamics

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In theoretical economics, Price dynamics has been framed within two competing school of thought providing alternative explanations of price formation. The first is the cobweb model of adaptive expectations (Cochrane, 1958; Ezekiel, 1938; Nerlove, 1958). This model has a conjecture that prices are formed by endogenous factors, such as forecasting errors. The explanation is that in response to high prices of a particular crop in a certain production year, farmers increase their production in the subsequent period. This leads to lower prices for this crop in the next period, cetrus-paribus. Responding to these lower prices, farmers reduce their production of this crop in the second period, only to see the rising prices in the third period as a …show more content…

However, this would imply stationarity of price series around a steady state, which is against the empirical findings of non-stationarity of most commodity price series around the globe. To account for this, Muth, 1961 enlightened that competitive storage model was developed to explain positive autocorrelations in prices), as well as their kurtosis and positive skewness (Deaton & Laroque, 1992). Frankel (1986) extended the competitive storage model by adding the overshooting hypothesis, which links the price dynamics in the commodity markets to changes in the monetary policy. Furthermore, Deaton and Laroque (2003) showed that it is also possible to represent positive autocorrelation, skewness, and kurtosis of observed data series with a rational expectations model without competitive storage. Other major challenges in empirical estimations are non-linear components, structural breaks or regime shifts (Deaton and Laroque, …show more content…

Thereby more efficient allocation of resources and long-run growth (Samuelson, 1952; Takayama & Judge, 1964). This implies that, better market integration can allow for mitigating the impacts of weather shocks on local agricultural prices. Market integration may also enhance food self sufficiency (Fafchamps, 1992). Several factors such as trade barriers, subsidies, exchange rate policies, poor infrastructure and non-competitive market structure are believed to impede price transmission (Rapsomanikis, Hallam, & Conforti,

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